Commentary on Economics, Information and Human Action

Can we finally get the ethanol mandate monkey off of our backs?

This summer, corn prices are high. Drought, extreme weather, and other factors combine to increase corn prices, and one of those factors is the federal ethanol mandate/renewable fuels requirement implemented over 20 years ago (as an oxygenate requirement) and extended in 2005. Roger Pielke Jr. points to a Purdue research paper that suggests that a waiver or partial removal of the renewable fuel standard could reduce corn prices by 20% or more. Posting at the Washington Post, Brad Plumer also discusses the issue, and the Purdue paper:

Currently, the EPA’s Renewable Fuel Standard requires refiners to blend a certain amount of ethanol in with their gasoline. In 2013, this will require about 13.8 billion gallons of ethanol. Since corn ethanol is the most viable form of ethanol in the United States at the moment, this creates a hefty—and fairly inflexible—market for corn. And that causes corn prices to rise higher than they otherwise would.

What would happen if the EPA relaxed this mandate? As the Purdue authors note, a lot depends on how quickly refiners and blenders could switch away from ethanol. That’s not as technically easy as it sounds—these refiners have already made preparations for blending ethanol. What’s more, under the EPA program, the producers of ethanol can carry over credits from year to year, giving them some flexibility to deal with shortages. That complicates matters further.

The study analyzes several different scenarios, varying by type of policy change and timing; as Plumer summarizes it:

In the first option, the EPA doesn’t alter its ethanol program at all. Corn prices remain elevated next year — staying around $8.57 per bushel. Under the second option, the EPA doesn’t alter its program at all, but ethanol producers use as many of their existing credits (RINS) as possible to deal with the shortage. Corn prices drop about 7 percent. In the third case, the EPA allows a little more flexibility in its rules, say, by partially relaxing the mandate or by allowing U.S. refiners to use imported sugarcane ethanol. Prices drop by about 13 percent.

Under the fourth option there, the EPA allows a fairly big relaxation of the ethanol rule next year. (A waiver this year is unlikely.) Refiners are required to use 25 percent less ethanol. And ethanol producers can carry over their credits from previous years. In that case, corn prices could drop more than 20 percent, to $6.56 per bushel. That’s about where corn prices would have been if we only had a “weak drought” this year. In other words, by relaxing the ethanol rule, the EPA could essentially turn a “strong drought” into a “weak drought” as far as prices are concerned.

Both posts are worth reading in their entirety. And from the electricity perspective, Ken Silverstein at EnergyBiz summarizes the arguments for waiving or eliminating the renewable fuels standard, and surveys the role that natural gas vehicles, hybrids, and electric vehicles can play in reducing the demand for gasoline.

This year’s drought has been painful and costly, but if in the process it leads to the demise of ethanol subsidies, boutique fuels, and the renewable fuels standard, that’s what I call a silver lining.